UNDERSTANDING FASB STANDARDS FOR CLOUD ACCOUNTING / ERP

Transcription

1 UNDERSTANDING FASB STANDARDS FOR CLOUD ACCOUNTING / ERP By: Mike Kean Making sense of the accounting and cost management for cloud software systems For many manufacturing and production companies, a recent rule change by the Financial Accounting Standards Board (FASB) regarding how to account for the costs of transitioning computing to the cloud has prompted many questions. While some companies apparently delay their move to the cloud, for most of them the advantages of doing so remain compelling even if they cannot write off the costs of the transition. The industry is making itself heard at the FASB, which may mean future rulings that more closely consider the nature of cloud computing and eliminate remaining ambiguities regarding the nature of assets. Here are the basics of what you need to know about the FASB s cloud computing cost update.

2 What is the rule change published by the FASB? In April 2015, the FASB published Accounting Standards Update It refers to its subtopic , which is titled Intangibles Goodwill and Other Internal-use Software. This update, according to the FASB, was meant to clarify the accounting rules regarding a customer s accounting for fees paid in a cloud computing arrangement. For public business entities, the guidance was effective for annual periods, including interim periods within those annual periods, beginning after December 15, For all other entities, the guidance was effective for annual periods beginning after December 15, 2015, and interim periods in annual periods beginning after December 15, Entities have the option to apply the guidance either prospectively, to all arrangements they enter into or materially modify after the effective date, or retrospectively. It did not become widely known outside of well-considered guidance from leading financial firms. Most magazine coverage did not appear until December Sikich / FAQ Rule Change 2

3 What was the FASB s intent? The update was part of the FASB s Simplification Initiative, which aims to reduce the complexity of generally accepted accounting principles (GAAP). Because existing GAAP did not provide clear guidance regarding companies accounting for fees paid in a cloud computing arrangement, practices varied, resulting in costs and complexities as finance managers tried to determine what their best accounting practice should be. What does the FASB include in cloud computing? The FASB refers as cloud computing arrangements to such cloud services as infrastructure as a service (IaaS), platform as a service (PaaS), software as a service (SaaS), and similar hosting arrangements. Is this FASB update actually news? The same guidance already existed in the FASB Accounting Standards Codification, paragraphs through That rule is written for cloud service providers who need to verify whether a customer engagement includes a sale or licensing of software, and therefore was not well known in the larger business community. The current update is designed to keep financial management practices in different types of companies consistent. Sikich / FAQ Rule Change 3

4 What is the FASB s key consideration here? According to the FASB, if you acquire a software license as part of your cloud computing engagement, you should account for your costs like you do with other license purchases. If your cloud computing contract does not include the purchase of software licenses but only permits the use of the software, then you need to account for them as service contracts. Does anything change for cloud services vendors? The accounting practices for the providers of cloud computing services are unchanged Sikich / FAQ Rule Change 4

5 What s the best way to realize the cloud s economic benefits after this FASB rule change? You need to assemble your stakeholders and set clear goals for what you want to accomplish by adopting cloud computing, financially as well as operationally. Consult with your trusted vendor or consultants regarding which cloud benefits you can achieve and how you best plan to realize them. Many companies lose sight of possible benefits when they don t take the steps to put them into practice or don t remember to account for them. What practically changes, according to the FASB? You may no longer capitalize your cloud contract costs as you did before. Before the new standard became effective, you were permitted to treat as a capitalizable asset both software you acquired as well as contractually used software. What if a company s cloud computing contract includes both software licenses and services to be provided? The FASB indicates you should then allocate the contract consideration between those software licenses and the service components. Sikich / FAQ Rule Change 5

6 How should production companies account for the costs of transitioning to the cloud, such as training, configuring systems, or migrating data? The FASB decided not to provide detailed, additional guidance for how to account for these costs in an effort to minimize the complexity of its regulations. It refers to other, existing guidance instead. If a company s cloud contract includes the transfer of a software license, you can capitalize these costs accordingly. If there is no software license purchased outright, you are entering a service contract and the rules change. The FASB also notes that upfront costs are common to a variety of service arrangements, not just cloud computing contracts, which broadens the scope of the issue. In the future, there might be an update regarding upfront costs related to services in general, but the FASB chose not to include cloud implementation and setup costs in this current update. What would the consequences of noncompliance be? The Securities and Exchange Commission (SEC) recognizes the FASB as the designated setter of standards for public companies. Other organizations, including state boards of accountancy and the American Institute of CPAs, defer to FASB standards as authoritative. Lack of compliance with FASB standards could result in your accounting practices being challenged and have an adverse impact on your investors, customers, trading partners, and brand equity, based on a qualified audit opinion on your financial statements. Sikich / FAQ Rule Change 6

7 Are there any grey areas in complying with the FASB rule change? Some of the outcomes in your accounting processes remain at the discretion of your finance managers. As some accounting and consulting firms point out, companies need to use their best judgment in accounting for the upfront costs of a cloud computing contract because some ambivalence remains. If, for example, the startup costs of setting up a cloud computing contract and transitioning computing workloads to the cloud result in an asset, you might be able to depreciate at least some of these costs. The conditions required for an asset to exist include likely future economic benefits resulting from past transactions or events. You can find the FASB s definitions of assets on pages 25 to 34 of the Statement of Financial Accounting Concepts No. 6. Some analysts expect that the lease accounting category of right of use (ROU) assets could apply to cloud computing and that the combined effect of the FASB update from April 2015 and an update from February 2016 on Leases (Topic 842) will be to increase the adoption of cloud service contracts. Sikich / FAQ Rule Change 7

8 How did cloud service providers respond to the rule change? Google, Salesforce, and others voiced their concerns that this change could be damaging to the cloud computing industry. They also questioned the FASB s categories and made a case for cloud computing as a special scenario that involves neither a traditional service contract nor an acquisition of items. Much of the discussion revolves around the notions that both software licenses and access to cloud computing are intangible assets, should be considered in a category of their own, and capitalization should remain an option. Sikich / FAQ Rule Change 8

9 How does the FASB rule change impact companies financial benefits of cloud computing? Even if your accounting team decides you cannot write off any costs at all of moving to the cloud, many other cost benefits remain possible. They include reduced or eliminated costs for server and storage hardware, software licenses, and networking equipment; reduced staffing in IT; lower costs of power consumption and facilities management; and predictable subscription fees based on your actual use of cloud resources. Keep in mind that some cloud-related costs savings may be indirect and hard to measure, but nonetheless real, such as, for instance, time saved in IT because software issues become the accountability of your cloud service provider, automatic software updates that do not add to the IT workload, and a better ROI on your investment in technology skills because the IT department can perform more strategically valuable work. What if a company s cloud computing contract includes both software licenses and services to be provided? Yes, the FASB specifies what disclosures companies need to make depending on whether they perform a prospective or retrospective transition. Privately owned companies also need to provide some level of disclosure. Sikich / FAQ Rule Change 9

10 1415 W. Diehl Rd. Suite 400 Naperville, IL sikich.com Sikich offers a wealth of CPA and ERP expertise and is proud of a successful track record of many cloud implementations on the industry s leading platforms. To learn how we can help your company us at info@sikich.com or call To learn more about your business in the cloud and understand how you can benefit best from it, navigate to the Sikich Cloud ERP Clarity Center. Mike Kean, partner for the Sikich technology practice, has more than 25 years' experience working with small and mid-sized companies helping them automate business processes with technology. His early background as a CPA focused on auditing manufacturing and distribution firms as well as 15 years working with Microsoft Dynamics and Netsuite, has contributed to his success in delivering high quality solutions to his clients.